Sustainable Development Law & Policy
Volume 6
Issue 2 Winter 2006: Climate Law Special Edition
Article 3
Confidence Through Compliance in Emissions
Trading Markets
Joe Kruger
Christian Egenhofer
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Kruger, Joe and Christian Egenhofer. "Confidence Through Compliance in Emissions Trading Markets." Sustainable Development
Law & Policy, Winter 2006, 2-13, 63-64.
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CONFIDENCE THROUGH COMPLIANCE IN
EMISSIONS TRADING MARKETS
E
by Joe Kruger and Christian Egenhofer*
INTRODUCTION
missions trading is a market-based mechanism designed to
allow firms to choose the most cost-effective strategy to
meet environmental standards. The success of sulfur dioxide (“SO2”) and nitrogen oxide (“NOx”) emissions trading systems in the United States and the launch of the ambitious European
Union Emissions Trading System (“EU ETS”) underscore the
value of emissions trading as a tool for environmental policy.
As more and more countries accept the need to address climate change on a priority basis, emissions trading will play an
increasingly significant role as a governance strategy that not
only creates incentives for firms to cut greenhouse gas (“GHG”)
emissions but also spurs technological innovation that ensures
this is done at the lowest cost. But only with high levels of comSustainable Development Law & Policy (“SDLP”) is a publication of
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2006 CLIMATE LAW SPECIAL EDITION
EDITORIAL STAFF:
Editors-in-Chief
Kirk Herbertson, Kelly Rain
Managing Editor of Climate Law Edition
Meryl Eschen
Senior Editors
Kevin Gallagher, Jane Garrido, Athena Kennedy, Rachael
Moshman, Ayako Sato, Cari Shiffman
pliance will emissions trading systems achieve reductions in
GHG emissions efficiently, effectively, and equitably.
Achievement of high levels of compliance hinges on robust and
effective strategies for monitoring, reporting, and verification,
where confidence in the system relies on timely and accurate
information on emissions levels, allowance holdings, and
trades. Without such reliable data, the system fails to meet its
environmental objectives.
The central focus of the workshop “Confidence Through
Compliance in Emissions Trading Markets,” which took place
in November 2005 in Washington, DC, was on the monitoring,
reporting, and verification (“MRV”) of emissions trading and
associated cross-border strategies and issues, as these are the
main elements of any effective compliance and enforcement
strategy.1 The International Network for Environmental
Compliance & Enforcement (“INECE”), in cooperation with its
partners, the Netherlands’ Ministry for Housing, Spatial
Planning, and the Environment (“VROM”), the Environment
Agency (England and Wales), the European Commission, the
U.S. Environmental Protection Agency, the Washington College
of Law at the American University, and Resources for the
Future, organized the Workshop as a follow-up to the
“International Conference on Compliance and Enforcement of
Trading Schemes in Environmental Protection,” hosted by the
Environment Agency and INECE in March 2004 at Oxford
University.2
The Workshop explored the role of compliance and
enforcement (“C&E”) strategies in emissions trading systems as
essential elements to maintaining a trading system’s environmental effectiveness and economic efficiency. Specifically, the
goals of the Workshop were to:
• Develop a set of best practices for achieving C&E in
emissions trading programs;
Rapporteurs
* This article was prepared for The International Network for Environmental
Compliance & Enforcement’s (“INECE”) workshop on “Confidence Through
Compliance in Emissions Trading Markets,” which took place on November 1718, 2005 in Washington, DC.
ADVISORY BOARD:
Joe Kruger is Policy Director at the National Commission on Energy Policy. This
paper was written while he was a Visiting Scholar at Resources for the Future.
Christian Egenhofer is a Senior Fellow at the Centre for European Policy Studies
and the Jean-Monnet Lecturer at the University of Dundee in Scotland.
John Cossa, Meryl Eschen, Kevin Gallagher, Stephanie Herrara,
Athena Kennedy, Jennifer Rohleder, JC Sylvan, Maria Vanko,
Mark Wilson, Mauro Zinner
Daniel Bradlow, David Hunter, Kenneth Markowitz, David
Newman, Marcos Orellana, William L. Thomas, Glenn Wiser,
Durwood Zaelke
© Copyright Sustainable Development Law & Policy, 2006. All
rights reserved.
WINTER 2006
This report was prepared in conjunction with INECE Expert Working Group on
Emission Trading. In particular, the authors would like to thank Chris Dekkers
(Ministry of Housing, Spatial Planning, and the Environment, Netherlands), Jim
Gray (Environment Agency, England and Wales), Reid Harvey (U.S.
Environmental Protection Agency), Marco Loprieno (European Commission),
Kenneth Markowitz (INECE Secretariat/Earthpace LLC), Lesley Ormerod
(Environment Agency, England and Wales), Scott Stone (INECE Secretariat), and
Durwood Zaelke (Director, INECE Secretariat/Institute for Governance and
Sustainable Development) for their comments and suggestions.
2
• Raise awareness of the value and importance of trading programs and emphasizing the role that C&E play
in achieving environmental objectives and ensuring
market credibility and investor confidence;
• Identify key requirements of effective emissions trading systems; and
• Assess available information and define additional
needs for creating an operational “common currency”
and a network allowing (inter)national trading among
different trading systems.
This article examines MRV strategies of the EU ETS, the
U.S. Environmental Protection Agency’s (“EPA”) SO2 and NOx
trading programs, and, to the extent applicable, the new Dutch
NOx trading system. This article also compares regulatory cultures and MRV models in the EU and United States and highlights key challenges to achieving high levels of compliance.
As more and more
countries accept the need
to address climate change
on a priority basis,
emissions trading will
play an increasingly
significant role as a
governance strategy…
INTRODUCTION TO KEY CONCEPTS
The use of emissions trading systems as an alternative to
more traditional forms of regulation requires a fresh look at the
relationship between the regulator and the regulated community,
as well as other key regulatory concepts.3 This section explores
the different responsibilities and risks of emissions trading systems for both the regulator and the regulated community.
MONITORING, REPORTING, AND VERIFICATION
Under traditional command-and-control regimes, firms
must follow a relatively strict set of procedures to meet environmental standards and are sanctioned when they fail to do so.
By comparison, under emissions trading systems, firms are free
to choose their own compliance strategy – including how much
to emit and how many allowances to trade. For the regulator,
this choice presents a new set of responsibilities. To be able to
sanction firms in which emissions exceed their allowance holdings and provide market participants with timely and accurate
3
information, the regulator must track both the emissions levels
and the number of allowances each firm possesses at a given
time. As many systems involve self-reported data, the regulator
must consider penalties for firms that falsify information.
Consequently, the regulator’s role is “no longer that of
grandly deciding what is best for firms and individuals, entertaining equitable appeals, and enforcing the results.”4 Rather,
the regulator acts more like an accountant or a bank’s credit
department.5 This results in an emissions trading system whose
market efficiency and investor confidence hinge on the MRV
strategies the regulator chooses to implement and enforce in the
pursuit of adequate levels of compliance.
COMMON INTERESTS IN COMPLIANCE
Unlike command-and-control regimes, participation in an
emissions trading system allows for both the regulator and the
regulated community to share a common interest in pursuing
high levels of compliance. Because allowances are an intangible
asset,6 a firm that invests in allowances to cover some of its
emissions has the same concerns as the regulator over market
integrity and the need for fraud-proof MRV in order to avoid
cheating and other risks that would decrease the value of
allowances and possibly undermine the system altogether.
Originally, the EU’s interest in market-based systems was
at least in part driven by the EU’s mixed record on uniform
implementation.7 The European Commission and the European
Court of Justice8 could not always ensure adequate implementation, enforcement, and, by extension, compliance. This is partly
why the European Commission initially preferred a
carbon/energy tax to tackle climate change. It was thought that
member states had an interest in improving on implementation
and enforcement to collect the revenues associated with the tax.
But the tax proposal was eventually abandoned due to lack of
support among EU governments.
TRANSPARENCY AND PUBLIC PERCEPTION
Transparent regulatory regimes and markets provide the public with timely and accurate information based on MRV data as a
means to instill trust and confidence in the market with evidence
of high compliance. Given the importance and sensitivity of MRV
data, it follows that the market participants and the public in general are more likely to trust its veracity if the process by which it
is collected and verified is perceived as open and accountable.
Transparency also helps counter some of the negative misconceptions about emissions trading systems, such as that they
provide polluters with the right to pollute.9 In fact, emissions
trading systems, consistent with the polluter pays principle, help
pass some of the cost of pollution control to the consumer of pollution-intensive products by imposing the costs of environmental harm on those who cause it and those who benefit from it.10
COMPARING REGULATORY CULTURES
The following section describes the regulatory cultures for
the United States and the EU. The description of the EU regulatory culture will concentrate on the EU layer of government and
reference the differences among EU member states when necesSUSTAINABLE DEVELOPMENT LAW & POLICY
sary. When comparing the two cultures, it is important to keep
in mind two fundamental differences between the United States
and EU. First, the U.S. system has been up and running for the
past decade while the EU ETS began this past year and must still
be considered a “work in progress.” Second, the U.S. programs
operate within a single jurisdiction, while the EU ETS is subject
to a multi-jurisdictional political environment.
U.S. REGULATORY CULTURE
The United States has more than a decade of experience
with operating cap and trade programs, and there are well-established procedures for compliance and enforcement. In general,
these programs are operated centrally by U.S. EPA.11 MRV for
the U.S. SO2 and NOx programs is characterized by detailed
rules, electronic reporting and auditing, and a variety of quality
assurance and quality control requirements. Although continuous emissions monitors (“CEMs”) play an important role in
U.S. programs, many sources are permitted to use alternative
methods to measure emissions, such as approaches utilizing fuel
meters and emission factors.12 Finally, although the MRV system used in U.S. trading programs has not been used to implement a carbon dioxide (“CO2”) trading system, it has been used
to collect and verify CO2 emissions data from the electric power
sector.13 This section will focus largely on the regulatory culture
and approach of the U.S. SO2 and NOx programs. Later in the
article, there will be a brief discussion of the issues that would
arise if the United States were to develop a compliance system
for a GHG program.
In the U.S. SO2 and NOx programs, approximately 75 percent of staff resources (75 people, including personnel in regional EPA offices and state agencies) are focused on the measurement, verification, and tracking of emissions data. Government
administrators also provide policy guidance on measurement
issues, develop and operate the information systems that track
emissions and allowances, certify monitoring equipment, verify
reported emissions data, and audit facilities.14 However, the
U.S. SO2 and NOx programs are much smaller than the EU ETS.
Combined, the two U.S. schemes cover considerably less than
half of the EU ETS installations. More importantly, an EU
installation could contain multiple sources of emissions, while a
U.S. “unit” is just one boiler.
Although the main organizing principle of program administrators is maintaining accountability for the system, an important secondary goal is providing administrative certainty.
Program administrators have tried to create administrative certainty by making program operations routine and not subject to
discretion. The routine nature and lack of regulatory discretion
of the U.S. trading programs manifests itself in several ways.
First, the rules for emissions monitoring are detailed and prescriptive, leaving little discretion for either companies or regulators. Second, there is heavy reliance on information technologies to operate the program and to automate routine procedures.
Finally, excess emissions penalties are nondiscretionary and
automatic. Following is a description of these aspects of the
U.S. model as well as a discussion of the compliance promotion
role played by public access to emissions and allowance data.
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Monitoring, Reporting, and Verification
The MRV process begins with facilities choosing their monitoring equipment and sending a monitoring plan to EPA. Under
some circumstances, participants may apply for alternative monitoring methods (e.g. in the SO2 program, gas-fired units may use
fuel flow meters and emissions factors), which must be approved
by EPA. Government authorities review monitoring plans and
provide feedback to industry. Industry next must conduct a series
of certification tests of their monitoring equipment and provide
these test results to government authorities in the form of a certification application. After certification, facilities begin to monitor emissions and conduct ongoing quality assurance and quality control (“QA/QC”) testing requirements.
Participants in the programs must report emissions to EPA
electronically every quarter in a standard format. Many participants use software developed by EPA or others pre-screen their
electronic reports before sending them to EPA. This software
runs many of the same checks as EPA’s computers and is
designed to minimize the numbers of errors in submitted reports.
EPA computers receive the electronic reports, review the
data, and provide feedback to company officials. This electronic feedback is generally of three types. Officials at facilities are
informed that either: (1) their data have been accepted and will
be stored in EPA’s database for the purpose of compliance determinations and public data dissemination; (2) their data have
been rejected because of specified critical errors; or (3) their
data have been accepted, but EPA has identified errors that must
be corrected in later data submissions. If there are problems
with the data, company officials are able to follow-up with EPA
monitoring specialists who are assigned to their facilities.
In addition to this first round of electronic review and processing, EPA uses software to audit the data and identify potential discrepancies or issues to investigate. These audits review
emissions or measured fuel data as well as the results of quality
assurance and quality control tests performed on the measurement equipment. EPA uses these electronic “desk” audits to target more in-depth field audits. Such field audits may include
observing quality assurance tests, reviewing on-site records,
inspecting measurement equipment, and/or comparing installed
measurement equipment to independent reference methods.
Field audits are usually done in teams together with state and
local environmental agencies. Where possible, regulatory officials (usually from local agencies) observe QA/QC testing of
emissions measurement equipment. The purpose of the audit is
to verify that the testing is completed according to standard procedures and accurately represented in the reports to EPA. Field
audits are performed on both random samples of all sources and
on sources identified with potential measurement or data problems during the electronic desk audits.
Detailed Rules for Emissions Monitoring and Reporting
Monitoring rules are highly detailed in the U.S. SO2 and
NOx programs. The regulations for monitoring cover almost
300 pages and provide thorough standards for installation and
certification of monitors, quality assurance and testing, handling
4
of missing data, recordkeeping, and other features. Most of
these rules are now incorporated into software systems at both
the companies and EPA so that the reporting and review of emissions reports are highly standardized.
To a certain extent, the use of CEMs in the U.S. trading system has required this more prescriptive approach. However,
even when units use alternative emissions monitoring methods,
the requirements are quite detailed. For example, there are 30
pages of regulations for a monitoring method used by gas-fired
units that utilizes fuel metering and emissions factors.
To provide certainty and ensure consistency, EPA devotes
extensive resources to answering and documenting questions
that arise about monitoring requirements. EPA has an online
policy manual that is largely in a question-and-answer format. It
has been updated more than a dozen times over the life of the
program and is now nearly five hundred pages long. These
detailed monitoring and reporting requirements, though complex, have provided companies with considerable certainty that,
if they follow the procedures, their emissions reports will be
accepted in a timely manner.
Extensive Use of Information Technology
The routine nature of the decisions that regulators make and
the vast amounts of emissions and allowance data that must be
handled have allowed regulators to build the operation of the
trading program largely around information technology.15 For
example, companies are required to report emissions data to
EPA in a standardized electronic format. Once the data are
received, EPA computers run quality assurance tests and give
electronic feedback to companies. Additional software is used to
run electronic audits on emissions reports. Emissions data are
maintained in a database that is accessible via the internet.16
EPA’s allowance registry is similar to an online banking
system, with companies able to manage their allowance
accounts and make transfers without submitting paper forms.
Approximately 80 percent of all transfers of allowances are now
done over the internet by the sources themselves. Similarly, EPA
has implemented a new application that allows companies to log
onto a secure site and perform functions that were previously
done with paper forms. These include changing information
about company officials who are authorized to act for an
allowance account, submitting data about new or retired emissions sources, and determining whether a source is required to
participate in the program.17
Electronic reporting and processing of data have been critical
in meeting the tight timeframes for the annual compliance true-up
period. Companies submit their final quarter’s emissions data by
January 31st and have until March 1st to transfer allowances and
submit final compliance certification forms. EPA then completes
verification of the annual emissions data and compares them electronically with allowances within the accounts of each unit.
Typically, this process is completed by June.
Finally, through the development of standardized reporting
formats and protocols, EPA and companies have meshed their
data systems. Early in the program, EPA developed and distributed software to help companies develop their emissions report5
ing systems.18 Software used by companies to track allowances
and emissions incorporates standardized EPA electronic reporting formats and allows companies to compare their own records
of allowance holdings with those in the EPA registry.
Compliance interactions between regulators and companies
mainly involve resolving discrepancies over emissions data that
arise in the quality assurance process. As discussed earlier, quarterly electronic reporting and feedback give companies adequate
notice of data problems and time to correct these problems
before the annual reconciliation of allowances and emissions
data. Compliance is a largely routine process; allowances are
electronically compared with emissions at each utility unit.
Penalties and Enforcement Action for Non-Compliance
The certainty that a penalty will be imposed is a critical element in providing the correct incentives in an emissions trading
program. The automatic nature of excess emissions penalties in
U.S. trading programs contrasts with the traditional regulatory
approach in the United States, in which sources in violation
negotiate for a regulatory exemption.19 Administrators of the
U.S. trading program argue that the automatic nature of penalties and the certainty of other compliance-related provisions
focus corporate resources and attention on low-cost compliance
strategies, rather than on lobbying or litigating to reduce costs.20
In addition to the automatic excess emissions penalties, there is
the authority to assess both civil and criminal penalties in U.S.
trading programs. With an automatic penalty that is significantly higher than the market price for allowances, and with a liquid
market for allowances, there has been nearly one hundred percent compliance with the SO2 and NOx trading programs.21
Public Access to Data
In the United States, emissions data from the SO2 and NOx
trading programs are available to the public and may be
accessed through the Internet. There are no confidentiality
requirements for this data. The public can also access data on
allowance transfers among different accounts in EPA’s registry.
Information technology has been the key to providing this
transparency in the U.S. emissions trading programs, with all
emissions and allowance data available online.22 Some commentators note that public access to emissions and trading data
builds confidence in the environmental results of the program
and provides an additional safeguard or incentive for compliance.23 Environmental non-governmental organizations
(“NGOs”) in the United States have used emissions and
allowance data for a variety of purposes, such as assessing the
net environmental impact of emissions trades and analyzing
and comparing emissions profiles of companies. EPA facilitates
transparency of emissions and allowance data by providing it in
user-friendly web-based formats. For example, tools on EPA’s
website allow users to make customized queries of the data that
are of the most interest.24
THE EU REGULATORY CULTURE
While there is little doubt that the EU ETS has strongly
been influenced by the U.S. SO2 trading program and the NOx
Budget Trading Program,25 it differs in several important
SUSTAINABLE DEVELOPMENT LAW & POLICY
aspects. The principal difference is the high level of decentralization and the significant degree of discretion for member
states in the implementation phase, even if compared to the
NOx Budget Trading Program. For example, under the EU
ETS, it is up to the member states to set policy on compliance
and enforcement strategies as well as allocation, which
includes the level of the cap and the exact methodology to be
applied. The European Commission provides a broad set of
guidelines for compliance and enforcement strategies, which
give considerable flexibility to installations and to member
states to develop specific monitoring procedures without
imposing uniform, mandatory standards for emissions verification. The EU ETS also delegates responsibility for emissions
verification to member states; however, the EU ETS requires
this to be verified by a third party. Normally, this would be an
independent third party verifier and only in exceptional cases
the government itself. Additionally, the member states are
responsible for defining competence requirements and the rules
and procedures for verifier accreditation. Initially, the EU ETS
Directive foresees that each member state will have its own
would miss the very essence of the diversity within the EU if
one would perceive it as a federation.
The high degree of decentralization is – at least partly – also
the result of consensual decision-making in the EU.30 As the EU
is made up of sovereign states, effective implementation of EU
laws by member states is best ensured if legitimate member
states’ concerns are taken into account during the negotiations in
the Council of Ministers when the laws are formulated. As a
result, initially the EU tends to choose decentralized options,
followed by steps to establish and coordinate a common
approach among member states. In the EU ETS framework, a
common approach relies on using best practices to address
issues jointly and share experiences among member states. But
initial experiences usually feed into a formal review, which in
many cases – including for the EU ETS – is built into the legislation.31 Market solutions have in many instances proven easier
than harmonization across 25 or more national jurisdictions,
which display major differences in legal systems, enforcement
cultures, and administrative capacities. In many cases, EU legislation is initiated by national legislation, reinforcing the tendency towards decentralization.32
The EU MRV Model: Third-Party Verification
With emissions trading
systems, it is not just the
regulator who is
concerned about
compliance.
registry,26 although joint registries between member states are
permitted. Consequently, this decentralized approach leaves the
European Commission Monitoring & Reporting Guidelines
(“MRG”) about one-fourth the size of respective guidelines in
the United States and much less detailed.
A decentralized approach is consistent with the makeup of
the EU political system, based on sovereign member states with
their own legal systems, traditions, and languages, where the EU
layer of governance (Council of Ministers and the European
Parliament) agrees on the framework, and member states enjoy
a high level of discretion in implementing in their respective
jurisdictions.27 As there are as many jurisdictions as member
states, one-size-fits-all policies seldom are an option.28
Consistency across member states is sought by so-called
Comitology Committees, consisting of European Commission
and member state officials who are responsible for the harmonization of implementation provisions. The mandate (and hence
the limit) of Comitology Committees are set both by the relevant provisions in the Directive and EU primary, secondary, and
case law such as EC internal and competition law.29 Despite the
fact that the EU exhibits elements of a federal system, one
WINTER 2006
Because the EU ETS began this year, it has not yet completed its first Reporting and Monitoring cycle. The following section
therefore only describes the basics of the EU MRV process as
designed by the Directive and implementation provisions.
Each installation covered by the EU ETS needs to apply
for a GHG emission permit,33 which inter alia requires monitoring and reporting of emissions. Article 14 in the EU ETS
Directive requires the European Commission to adopt the
legally binding MRG of emissions based on Annex IV of the
Directive, which include accuracy, timeliness, and integrity.34
The framework on monitoring and reporting is completed by
verification and a registry.
Each installation develops a monitoring methodology based
on the interpretation of the MRG; the methodology must be
approved by the competent authority in each member state.
These methodologies are principally based on a combination of
emissions factors, fuel use, and production data.35 The MRG
sets different “tiers” of monitoring methodologies, with the top
tier being the most accurate (and usually the most expensive).
Installations are required to use the top “tier” unless they can
show it is impractical or will result in disproportionate costs. In
these cases, the Competent Authority (“CA”), or responsible
agency in each member state, can waive this obligation and drop
the installation’s methodology to a lower tier.36
With the exception of Germany, member states have agreed
that the installation-specific monitoring methodology should be
part of the permitting procedure.37 Installation-specific methodologies are submitted for approval to the CA. The underlying
philosophy is to reduce the possibility of error and instill confidence for both participants and regulators.
Operators at each installation report their emissions according to the methodology specified in its permit. Although operators must ensure its report complies with the applicable method6
ology, an independent third party must verify all self-reported
emissions. This third party is usually a non-governmental independent entity; however, in exceptional and justified cases verification can be done by a government body.38 The verifier determines whether emissions have been monitored and reported in
accordance with the validated methodology in the permit. In
some countries (e.g. UK, Germany, and Portugal) verifiers have
also checked baseline emissions.
Government supervision is generally exerted throughout
the accreditation process.39 In order to prove suitability (e.g.
technical qualification, independence from the installation to
verify), verifiers must undergo accreditation in member states.
In most cases, member states use existing accreditation bodies.
Once accredited, verifiers, in principle, have the final word on
an installation’s report. Currently, there is coordination at the
EU level to promote consistency in the accreditation process for
verifiers. But there is not yet a harmonized approach, as competence requirements for verifiers are still being defined. Because
the verifier has the final say on an installation’s report, particular importance is attached to ensure that verifiers perform their
task accurately. Accordingly, the CA must ensure that those
accredited as verifiers are qualified and supervised via regular
inspections and sample controls.
Although verifiers’ tasks are similar to an auditor reviewing
a firm’s financial accounts, their work is distinct from financial
auditors. For example, a verifier’s areas of expertise include a
technical background. Thus, qualified engineers who are familiar with the technical issues of emissions measurement can be
employed as a verifier.
Similar to the United States, EU member states try to create administrative certainty by making program operations
routine. For example, the Netherlands has developed a standard validation protocol aimed at ensuring that the monitoring
protocols proposed by the operators in their request for a permit would be approved (validated) in a uniform way. This was
to limit discretion in the validation process. A second protocol,
on guidance for accreditation of verifiers was developed in
early 2004. This protocol has been developed in cooperation
with members of states, industry, and the International
Emissions Trading Association (“IETA”) for use by the
European Co-operation for Accreditation (“EA”), a voluntary
cooperative effort of European Accreditation bodies, to develop its Guidance on Verification (“EA 6/03”). A number of
member states have made the use of EA 6/03 obligatory in
their national legislation. Some member states concentrate on
improving national verification procedures, while other member states are yet undecided. In the future, it is likely that the
European Commission will provide more guidance in order to
achieve a higher degree of standardization of procedures.
Although there is far less reliance on information technologies
to operate the program and automate routine procedures in
comparison to the United States, some member states such as
Finland, the Netherlands, and the UK have started to progressively standardize electronic formats to make better use of
information technology.
7
There is an important similarity between the United States
and the EU in that excess emissions penalties are nondiscretionary and automatic.40 To further strengthen compliance, operators are not only subject to penalties but also must surrender
allowances in the following period (the importance of non-discriminatory and automatic penalties in the United States is discussed above). But in line with the far more decentralized political environment of the EU, administrative and criminal penalties are to date entirely the responsibility of member states, as
the EU has no competence in this area. However, relevant member states provisions need to be communicated to the European
Commission. Additionally, a ruling last year by the European
Court of Justice asserted that the EU has the power to require
member states to lay down criminal penalties for the purpose of
protecting the environment.41
Consistent and fraudproof monitoring and
verification procedures...
have moved to the center
of emissions trading
schemes.
Reported emissions data are collected in a registry that can
be used to measure compliance by comparing the verified emissions of an installation with the number of allowances the installation holds, which is also known as the tracking of allowances.
The registry amounts to a hub and spokes system consisting of
one European hub in the form of the EU transaction log and 25
different member states registries, which communicate through
standardized protocols and the EU. In the future, it is anticipated that member states will develop joint registries (see below).
It is interesting to note that the Dutch NOx trading system initially had no automated registry, but the government decided to
make maximum use of the procedures and structures as defined
in the EU ETS, thus seeking the maximum synergy possible
between the two schemes.
Public Access to Data
Emissions data will be publicly available as of the completion of the first Monitoring and Reporting Cycle (March 31,
2006). Under Article 17 of the EU ETS Directive, a full emissions report for every single installation needs to be published.
Modalities for this are under discussion by member states, where
making the data available online through a web page for each
national registry has been discussed. Access to information and
transparency in general depend on the degree of user-friendliness
of the published data. Therefore, verified emissions of installations will be entered into a Verified Emissions Table of a memSUSTAINABLE DEVELOPMENT LAW & POLICY
ber state registry. On May 15th of each year, the Central
Administrator and each member state registry will display on
their public website the verified emissions figure for each installation as well as the allowances surrendered for that installation
and whether or not that installation is in compliance with its obligations. The emissions figure for every single installation can be
accessed through the Community Independent Transaction Log
(“CITL”) website. This process should be largely routinized.
PARTICIPANT PERSPECTIVES ON COMPLIANCE
With emissions trading systems, it is not just the regulator
who is concerned about compliance. The regulated community
and other participants and investors all share a common interest
with regulators in achieving high levels of compliance.
Otherwise, cheating or even the perception of cheating can risk
devaluing allowances, thereby reducing or eliminating the economic incentive to cut emissions. To underscore this common
interest in compliance, it is worth examining the different perspectives of participants in emissions trading systems.
Participants in the emissions market require a stable and
predictable environment. At the same time, governments, citizens, and environmental NGOs demand that environmental
objectives are met. By and large, these two priorities. (i.e. stability and efficacy) are compatible and even mutually dependent. Even if emitters, governments, and environmental NGOs
are likely to hold different views on the severity of the targets,
the “market” prefers credible targets that not only increase liquidity, but also reassure governments and society that the trading process will lead to credible reductions in GHG emissions.
Consistent and fraud-proof monitoring and verification procedures therefore have moved to the center of emissions trading
schemes. While this debate initially focused on accuracy and
credibility, with progressive implementation the spotlight turns
to costs, notably how to reduce them.
EU GOVERNMENTS’ PERSPECTIVES
Interest in emissions trading in the EU has been triggered
by a number of different reasons. First were potential economic
merits. Emissions trading promises least-cost abatement and
allows industry a high degree of flexibility in how to meet the
environmental objectives. Second, emissions trading was seen
as particularly well-suited to climate change policy as a means
of translating absolute national targets into sector- and installation-specific targets. Third, governments were attracted by the
cap, which gives assurance that the environmental objective is
met. It was thought that emissions trading could be a means to
address implementation and enforcement deficits that were
increasingly becoming apparent within the EU and were expected to widen with enlargement. Finally, after aborted attempts by
the EC to institute a carbon tax and by industry to reach voluntary agreements to cut emissions, a market-based system
became the most attractive option for confronting climate
change, especially when compared to the largely unworkable
command-and-control alternatives.
Success with the EU ETS, both in terms of reducing emissions and establishing mandatory trading systems as a useful
WINTER 2006
regulatory strategy to confront climate change, is essential for
the EU to maintain its credibility in international climate negotiations. While success for the EU ETS depends on a variety of
factors, its MRV strategies will play a large role in its environmental effectiveness, economic efficiency (including establishing a level playing field for businesses throughout the EU and
the world), and political acceptability.
U.S. GOVERNMENT PERSPECTIVE
Emissions trading has become the policy of choice for legislators and program administrators in the United States to
address regional air pollution. This is both because the programs
have proven effective and because the programs have satisfied a
variety of competing interests.
Without a doubt, the existence of stringent monitoring and
enforcement provisions in the 1990 Clean Air Act gave policy
makers the confidence to experiment with the flexibility of the
cap and trade approach. Most recently, all of the major legislative proposals in Congress for further reductions of multiple
pollutants featured a cap-and-trade structure. Finally, although
there is still controversy in the United States about the adoption
of a cap on GHGs, emissions trading is generally viewed as the
inevitable approach if the United States adopts a mandatory policy.
REGULATED FIRMS, MARKET PARTICIPANTS, AND
INVESTORS
Business and industry have supported the introduction of
emissions trading largely because they have identical motives to
the government, although the weighting of motivations varies.
While business and industry may value least-cost abatement and
flexibility the most, they also can see the additional advantage of
a management focus on cost-effective abatement possibilities.
Managers will try to exploit opportunities through better carbon
management and participation in the trading market. The realization of such opportunities requires efficient and effective MRV.
A majority of firms operating in the EU have made emissions trading and the EU ETS their instruments of choice, given
perceived economic advantages. But the future of the EU ETS
depends on its credibility. Effective MRV strategies play a key
role here by boosting its credibility as well as helping firms
identify overlooked reduction opportunities, as the experience
of BP and others suggest.42
Other participants in the system have a somewhat different
perspective. Industry participants are most interested in establishing and maintaining a level playing field – that is, that firms
believe their competitors are in compliance and, if not, will be
identified and sanctioned.
In addition, investors and traders are generally most interested in determining the degree to which allowances are sheltered from the risk of devaluation. In other words: they do not
want to lose money investing in carbon. The two main sources
of risk of devaluation are widespread cheating and uncertainty
brought on by ineffective MRV strategies and a wholesale
change in regulatory policy.
The perspectives of industry and market participants in the
8
United States are similar to those in Europe. Svendsen found
that the flexibility of the cap and trade approach, coupled with
increased competition in the electric power sector, is one of the
main reasons the U.S. electric power industry prefers a grandfathered tradable permits market over other regulatory approaches.43 One industry representative notes that U.S. trading programs have worked well because the role of regulators is to “to
get the system up and working, to ensure compliance, and to
report on progress.”44 Swift argues that this focus on emissions
results rather than compliance choices creates less friction
between regulators and companies because it reduces transaction costs and avoids delays inherent in the review of industry
strategies.45 This represents a considerable improvement over
earlier emissions trading programs, in which case-by-case
reviews of trades contributed to delays and uncertainties.46
Similarly, brokers and traders have also supported strong com-
Given these differences in
approach, what will be the
best way to proceed
towards a common
currency [for emissions
trading]?
pliance provisions as a prerequisite for the development of the
market. For example, one broker has noted in testimony before
the U.S. Congress:
There is no “natural benefit” for owning a tradable
emissions right. Their only value is compliance with
the law. Consequently, there must be a fate worse than
trading if trading is to succeed. Accordingly, penalties
for non-compliance must be severe when compared to
the costs of trading (including the time and effort to
execute the trades). And, just as importantly, penalties
must be enforced.47
While industry generally supports monitoring and verification provisions in the SO2 and NOx Programs, some companies
have expressed concerns about the high monitoring costs and
complexity related to continuous emissions monitors. Ellerman
et al. found that these costs were as much as seven percent of
overall compliance costs during the first phase of the SO2
Program.48 However, they also note that “regulated firms seem
to be unanimous in expressing their preference for this type of
regulation, presumably because the gains in reduced direct compliance costs more than offset whatever compliance costs are
involved in monitoring…”49
9
NON-GOVERNMENTAL ORGANIZATIONS AND THE
PUBLIC
In both the United States and Europe, the main attraction
for NGOs has been the environmental certainty as a result of an
absolute cap.50 Such certainty however depends on the credibility of MRV. Environmental NGOs demand that environmental
objectives are met. Hence, there is convergence between emitters and NGOs, although the devil is in the details.
COMPLIANCE CHALLENGES
Effective implementation of MRV rules is central to providing trust in the system as well as to offering a major potential for efficiency improvements by bringing down costs associated with MRV and emissions trading in general. This has
notably been demonstrated for U.S. trading schemes such as the
SO2 trading and the NOx Budget Trading Programs.51 Arguably,
for the U.S. acid rain programs and the NOx Budget Trading
Program, measuring and monitoring have been the most complex and costly components of the trading scheme. The EU ETS
is somewhat different as GHG emissions are not actually measured, but calculated based on energy use or other proxies. This
does not, however, automatically mean that one of the methods
is superior to the other.
THE UNITED STATES: FUTURE CAP AND TRADE
COMPLIANCE ISSUES AND CHALLENGES
Although compliance procedures for U.S. SO2 and NOx
programs are well established, there is much uncertainty about
the design of any future mandatory program for greenhouse
gases in the United States. There are a number of factors that
could shape the MRV procedures of such a program. Key questions, which are discussed below, include:
• What will be the scope and point of regulation of
such a program?
• What role will continuous emissions monitors play?
• How will state and regional cap and trade programs
affect a potential national program?
• What will be the impact of voluntary protocols and
registries?
Scope and Point of Regulation
Ultimately, the scope and point of regulation of a potential
trading program could have an impact on the types of MRV systems developed. To the extent that a program might just cover
the electric power sector, it is likely that the MRV system would
build upon the existing model used in the SO2 and NOx programs. As noted, most electric power sources already report
their CO2 emissions to EPA.
The details of a potential MRV system are less certain in
legislative proposals that address sectors beyond electric power.
Specifically, two legislative proposals – the McCain-Lieberman
Bill and a proposal by Senator Bingaman – are for economywide programs that would cover multiple sectors. In the case of
McCain-Lieberman, emissions from the electric power and
SUSTAINABLE DEVELOPMENT LAW & POLICY
industrial sectors are regulated “downstream” (i.e. at the smokestack) while emissions from the transport sector are regulated
“upstream” based on the emissions potential of fuels processed
by oil refineries. In contrast, under the Bingaman proposal, the
point of regulation is entirely upstream at fuel producers,
processors, or transporters (e.g. natural gas pipelines). Thus,
new protocols for monitoring, verifying, and reporting the emissions potential from upstream sources and the emissions from
some downstream industrial sectors might be necessary.52
Use of CEMs
CEMs are a cornerstone of the emissions monitoring system in conventional U.S. pollution trading programs. But what
factors and considerations will determine their use in a potential greenhouse gas trading program? First, as the discussion
above notes, one important factor will be the point of regulation. For example, if the point of regulation is entirely
upstream, CEMs will not be used at all. CEMs would only be
an option in trading programs where some or all of the point of
regulation is downstream. Second, it is important to note that
the existing CO2 reporting requirement for electric power
facilities does not require CEMs and allows facilities to
choose alternative methods. Approximately 40 percent of units
that report CO2 emissions to EPA use CEMs and 60 percent
use alternative methods. This represents about 87 percent of
CO2 emissions that are measured with CEMs. Most of the
units that use CO2 CEMs are coal-fired units, while oil and
gas-fired units generally use alternative methods. Third, to the
extent that sources already use CEMs (i.e. in the power sector), there may be a strong incentive to continue to use those
existing systems. For example, Regional Greenhouse Gas
Initiative (“RGGI”) states have proposed using the existing
reporting system for CO2 (i.e. CEMs for some units and alternative methods for others). This proposal has received support
from industry stakeholders, who presumably do not want to
develop a new or additional monitoring and reporting system.53 In contrast, the motivation to use CEMs may not be as
strong for facilities outside of the power sector, since they are
not currently reporting CO2 emissions to EPA. In addition, for
some sectors with process or fugitive emissions, using CEMs
may not be feasible or practical.
Impacts of State and Regional Programs
A further uncertainty about the design of future U.S. GHG
trading programs is the impact of state and regional programs
that are now under development. The most advanced of these
efforts is the RGGI, a cap and trade program under development
by nine states in the northeastern and mid-Atlantic United
States. Initially, the program will address CO2 emissions from
the electric power sector. However, the program may be expanded to include additional sectors and GHGs. In general, the RGGI
program has proposed to use compliance and enforcement structures similar to those used in the U.S. NOx trading program. In
addition, as noted above, the program has proposed using CO2
data currently reported to EPA.
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West Coast states may develop a different model for a
cap-and-trade program. Concerns about addressing imports of
power from outside the state have led some stakeholders to
advocate design approaches that focus on the distribution of
electric power rather than generation. For example, an advisory group to the Governor of Oregon has recommended a
tradable carbon content standard for power consumed in the
state, which would take power imports into account.54
California is considering a proposal to allocate allowances to
load-serving entities, which would be required to hold
allowances to cover the emissions of the electric power they
distribute.55 Such a program might require some sort of program for monitoring or estimating emissions associated with
power imported from outside the state. How these programs
might address MRV and other compliance and enforcement
issues has not yet been determined.
Impacts of Voluntary Efforts
A final uncertainty is the impact of voluntary GHG reporting protocols and registries on a potential mandatory U.S.
weighting national system. For example, more than ten states
have adopted or are in the process of adopting voluntary registries for greenhouse gas emissions.56 Most notable is the
California Climate Action Registry Program, which uses a greenhouse gas reporting protocol based on the reporting protocol of
the World Resources Institute (“WRI”) and World Business
Council for Sustainable Development (“WBCSD”). There are
also Federal GHG reporting and registry programs. Under the
EPA Climate Leaders Programs, companies develop comprehensive GHG inventories, set corporate emission reduction targets,
and report annually their emissions and progress towards reaching their targets. The program’s reporting protocol is based on
the WRI/WBCSD protocol, and it requires entity-wide reporting.
Under the Voluntary Reporting of Greenhouse Gases Program,
established by Section 1605(b) of the Energy Policy Act of 1992,
organizations and individuals who have reduced their emissions
may record their accomplishments and publicize their actions.
This program encourages entity-wide reporting but also provides
flexibility in defining the reporting entity.
Voluntary reporting schemes and registries have a number of
benefits, including helping corporations understand the scope of
their emissions and the possible mitigation measures that they
might take. Voluntary reporting programs may also raise awareness of the climate change issue and highlight the actions of companies who are leaders in reducing their emissions. Ultimately,
voluntary reporting schemes and registries are made for different
purposes than compliance rules of mandatory programs.
Several aspects of voluntary protocols may require revision
or elaboration to be adequate for mandatory trading programs.
This is because there is an inherent tension in voluntary protocols,
which must balance the desire to encourage participation with the
costs associated with a rigorous emissions reporting program. If
measurement and reporting requirements are too rigorous and
costly, there will be few participants. Conversely, if program
reporting restrictions are too lenient, the resulting emissions data
10
may not be an appropriate foundation for a future mandatory program. In addition, some voluntary registries and protocols require
reporting at the company-wide level rather than the facility level.
While this is appropriate for a voluntary program that tracks a corporate emissions goal, it is less useful for a sector-wide or economy-wide mandatory trading program, where it is important to
carefully track emissions at the facility level. Existing conventional air pollution control programs require emissions reporting
at the unit or facility level, in part because of the complexity of
tracking shifts in corporate structure.
Nevertheless, experimentation with voluntary protocols by
industry may lead to the development of better emissions estimation methodologies. This may be particularly true for sectors
such as iron and steel, where emissions monitoring or estimation
is less than straightforward. This experience would certainly
inform the development of future U.S. mandatory guidelines for
emissions monitoring. Gradual alignment of voluntary reporting
schemes and registries with compliance rules of mandatory programs could facilitate transition to a regulated program.
COMPLIANCE CHALLENGES FOR THE EU
Implementation of important new EU legislation is typically approached in a “learning by doing” mode in which various
member states experiment with different national responses to
EU framework legislation. In the absence of a central federal
enforcement agency, the European Commission provides guidance while at the same time ensuring compliance with laws.
Non-compliance will result in member states being brought to
the European Courts. Additionally, member states supported by
the European Commission share experiences and eventually
identify best practices. Thus, there are numerous multi-stakeholder initiatives that attempt to incrementally harmonize procedures (“soft harmonization”).57
The challenge for the EU and its member states is to transpose the MRV provisions into national legislation, taking into
account the local institutional landscape and legal circumstances
(including established practices), while at the same time ensuring an adequate degree of harmonization across member states.
Additionally, although the EU has looked to the U.S. NOx budget trading program, which is more decentralized than the SO2
program, the EU is largely on its own in developing a decentralized model.
Principal Challenges
Within the EU ETS, the major challenge is to ensure consistent implementation of MRV across member states.
Effective implementation of MRV is an integral part of
enforcement and deterrence, which are preconditions for compliance. Achieving consistency – a permanent challenge for
the EU – requires creating similar procedures across member
states. This offers considerable efficiency gains and ensures a
level playing field (i.e. it allows for undistorted competition
within the EU internal market).
Consistency starts with the quality of the member state permit, which includes the incorporation of MRG. Member states’
11
rules will differ as to the nature, frequency, and depth of inspections to be carried out. It is also likely that member states will
vary in the rigor with which they enforce national and EU law.
A great number of differences between member states could
affect the level playing field of competing companies and, at the
extreme, may lead to gaming. There is also a risk that, if flexibility leads to inconsistencies within or between member states,
national regulators might extend their intervention.
Another challenge for the EU is to clarify institutional
responsibilities. Currently, responsibilities for MRV in the EU
and its member states lie with the EC, 25 member states, more
than 150 Competent Authorities,58 around 11,500 installations,
and an uncertain number of verifiers and accreditation bodies.
While the EU ETS Directive and subsequent legislation in principle have assigned responsibilities, in practice the boundaries
might sometimes be blurred. The critical intersections are
European Commission and member states, Competent
Authorities and companies, verifiers, and accreditation bodies.
The final challenge relates to verification, and notably to
ensuring harmonized rules for accreditation. Major diversity in
stringency of accreditation is likely to affect the credibility of
the EU ETS. To date, there are a number of differences in the
competence requirements between various member states.
These differences are partly fueled by the member states’ fears
of lacking the necessary verifiers. Member states are trying to
find the right balance between qualification requirements and
ensuring the availability of sufficient verifiers.
Initial Responses
Some of the challenges, such as the initial competence
assessment of verifiers and jurisdiction issues for different institutions, are typical issues for a new and ambitious scheme that
is breaking new ground. They will be addressed during the first
round of compliance through different processes. The Working
Group III sub-committee on the Comitology Committee will
address some of these issues, but its mandate is not to achieve
full harmonization. Rather, it is to ensure that member state
implementation is in line with EU law. There are also complementary initiatives aiming at voluntary harmonization by member states. Such voluntary harmonization initiatives in many
cases seek the active involvement of stakeholders.
There has already been progress on further harmonization
of verification and accreditation standards and procedures. This
includes the application of the EA’s Guidance for Recognition of
Verification Bodies under EU ETS Directive.59 Many member
states – particularly those that have Accreditation Bodies that
are members of the EA – are looking to use this document as the
basis for setting up accreditation schemes for verification bodies. In addition, member states are currently developing a common Verification Reference Model, which covers all elements
for an effective control of monitoring, reporting, verification,
and accreditation. The Verification Reference Model can be
used as a model for both GHG verification procedures and the
principal elements of the verification framework by outlining
the respective responsibilities of the CAs and accreditation bodSUSTAINABLE DEVELOPMENT LAW & POLICY
ies. This includes the responsibilities as set out in the Directive,
MRG, and EA 6/03. Additionally, CAs are encouraged to use it
to self-assess their situation. An EU-wide Verification Resource
Centre will assist the Authorities in their verification exercise
focusing on processes, the verification statement, and the qualification profile of verifiers. Also, focus groups with interested
representatives from member states and CAs are about to be
launched on the following issues: mutual recognition of verifiers; exchange of best practices in running ETS verification;
and risk analysis.
Theoretically, the EU could establish a common, or at least
regional, accreditation body that is responsible for accreditation
of verifiers on an EU-wide basis. This would have obvious
advantages related to consistency and uniformity of accreditation
within the EU. The feasibility of creating a common EU accred-
Effective implementation
of MRV rules is central to
providing trust in the
system as well as to
offering a major potential
for efficiency
improvements.
itation body as a real political option is unclear but remains
unlikely unless the European Commission takes a lead on this.
The creation of regional accreditation bodies appears to be more
likely. Another alternative option is that accreditation bodies in
all EU member states follow similar rules for accreditation.
Some member states are already allowing mutual recognition,60
but may require that accreditation bodies (e.g. UKAS) carry out
some form of supervision or surveillance of verification bodies
when they work in another member state for the first time.
Cost Considerations
While initial focus of MRV will remain on implementation
and capacity building, more recently, cost considerations have
risen on the agenda. As one of the promises of the EU ETS has
been cost-effectiveness, the EU, member states, and stakeholders monitor costs and identify areas where excessive costs can
be avoided. Potential areas for attention are verification and
small installations.
As was pointed out above, there are differences in verification and accreditation of verifiers not only between the 25 member states but within some member states. This can increase
costs for international companies wishing to apply uniform
monitoring and reporting procedures for one verifier throughout
the EU.61 Annual costs for verification are generally estimated
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to range between €25 and €30 million per annum.62
It can be argued that the inclusion of small installations into
the EU ETS can lead to high administrative costs for both governments and the covered sources. For small installations with
emissions of less than 25,000 tons of CO2, additional costs for
establishing monitoring and reporting can be disproportional to
the environmental benefit.63 Therefore, one of the principal priorities of the revision of the ETS MRG is cost-efficiency;
specifically, to lighten the administrative burden for small
installations.64 This will be part of the MRG review that is
planned to be formalized by spring 2006.
THE ROLE OF PERFORMANCE MANAGEMENT:
MEASURING SUCCESS
As governments continue to experiment with emissions
trading systems, evaluation of the results of these systems will
become increasingly important.65 There has been little explicit
research on how best to measure the success and performance of
enforcement and compliance systems in emissions trading programs. However, there has been an effort by INECE, the
Organisation for Economic Co-operation and Development and
several governments to develop compliance and enforcement
indicators for environmental programs in general.66 Work by
these organizations and governments has pointed to several benefits of using performance indicators, including helping program managers understand the effectiveness of their programs
and help improve environmental programs over time.67
Traditionally, environmental program administrators have
used output-based indicators such as the number of enforcement cases initiated or penalties assessed because these indicators are easy to measure and are directly tied to compliance and
enforcement efforts. However, these types of metrics pose a
dilemma. In an ideal environmental program, one would expect
high compliance and few penalties assessed. The question is
whether this outcome is the result of good compliance or poor
enforcement? Moreover, these types of measures are often not
a good gauge of the overall success of an environmental program. Because of the shortcomings of these types of indicators,
the literature suggests more sophisticated measures are necessary to address the multiple audiences for information on program performance. For example, Stahl notes, “A combination
of measures – outputs and outcomes, quantitative and quantitative, statistical and narrative, aggregated and disaggregated,
national and local – is necessary . . .”68
In U.S. trading programs, both output and outcome data is
used to evaluate the performance of compliance and enforcement decisions. For example, examples of indicators include:
• Percent of sources subjected to environmental audits;
• Percent availability of emissions monitors;
• Results of relative accuracy tests for monitors;
• Number of enforcement actions taken and penalties
assessed; and
• Overall compliance rate of affected sources.
12
The programs also use a variety of outcome indicators to
measure the overall effectiveness of the programs, including
emissions and deposition reduced, as well as changes in the
environment attributable to emission reductions. For the most
part, compliance and enforcement measures are viewed as a
component of the overall system, including the overall environmental results, costs and market function. A number of studies
have looked at the compliance results of these programs in the
context of the overall performance of the programs.69
CONCLUSION
The preceding sections have highlighted the differences and
similarities between the United States and EU approaches to
MRV in emissions trading systems. Ultimately, there may be
additional variations on these models, as Canada, Japan, and
other countries begin to adopt domestic emissions trading systems. Given these differences in approach, what will be the best
way to proceed towards a common currency?
The first step to answering this question is to understand the
extent to which different approaches might lead to different
results. For example, would reported emissions from a facility
be significantly different with U.S. methodologies than EU
methodologies? To what extent are differences procedural rather
than substantive? A more technical analysis of monitoring
methodologies will be necessary to answer these questions.
A second consideration will be a more general need to
understand the MRV issues that arise when different national
trading programs are linked.70 The ultimate laboratory for
understanding these linkage issues will be the first year(s) of
implementation of the EU ETS. As discussed, there is flexibility among EU Member States in how they implement MRV
guidelines. Understanding the proper balance between flexibility and consistency in the EU ETS will be very useful as a test
case for linking domestic systems.
Finally, further dialogue between experts is necessary to
build understanding of the unique features of the EU and U.S.
models. U.S. observers may need more information on how third
party verification actually works in an emissions trading program.
For example, what will be the impacts of third party verification
on the administrative efficiency of the verification process? EU
and Member State officials may need more information on
whether the information technology based system used in the
United States for reporting and verification will be flexible
enough to meet the needs of diverse Member States. In addition,
there may be questions about whether this type of approach could
be applied to the wider universe of sectors and installations in the
EU ETS. Ultimately, sharing detailed information about different
MRV systems will lead to better understanding of the costs and
benefits of different approaches. This may be the best first step
towards a common currency for emissions trading.
ENDNOTES: Confidence Through Compliance
also heard from some parts of the nongovernmental organization communities and occasionally from parliamentarians.)
1 See generally, MAKING LAW WORK: ENVIRONMENTAL COMPLIANCE &
SUSTAINABLE DEVELOPMENT (Durwood Zaelke, Donald Kaniaru, & Eva
KruÏíková eds., 2005).
10 ROBERT COSTANZA, ET AL., AN INTRODUCTION TO ECOLOGICAL
workshop.html.
11 However, some States participate in monitoring activities in both the
2 For more information, see http://www.inece.org/emissions/
3 See John K. Stranlund, Carlos A. Chavez, & Barry C. Field, Enforcing
ECONOMICS 205 (St. Lucie Press, 1997).
SO2 and NOx programs, and State governments have the lead in enforcement actions in the NOx program.
Emissions Trading Programs: Theory, Practice, and Performance, 30(3)
POL’Y STUDIES J. 343 (2002), reprinted in MAKING LAW WORK, supra
note 1, at 113-42.
12 For example, although 96 percent of emissions in the U.S. SO pro2
THE EMISSIONS TRADER 2(4), at 1-5 (1998).
13 Approximately 40 percent of units that report carbon dioxide (“CO ”)
2
4 See Danny Ellerman, Emissions Trading and Environmental Policy,
5 Joe Kruger, Companies and Regulators in Emissions Trading Programs,
at 10 (Resources for the Future, Discussion Paper 05-03, Feb. 2005).
6 That is, they behave like property rights in a market.
7 The compliance gap between EU member states was identified as early
as the 1990s.
8 The European Commission as the “Guardian of the treaty” has responsibility to ensure that EU legislation is properly transposed into national
law and to supervise implementation. The latter task requires close cooperation with member states.
9 See, e.g., Kruger, supra note 5 (citing the example of an opinion piece
in USA Today, arguing that as a result of allowance trading people would
die. For a long period there have been claims by some EU policy makers
that Europeans do not like a situation where people make money with
pollution. During the discussions and negotiations, such opposition was
gram are monitored with continuous emissions monitors (“CEMs”), only
36 percent of regulated “units” are required to use CEMs.
emissions to U.S. Environmental Protection Agency (“EPA”) use CEMs
and 60 percent use alternative methods.
14 EPA OFFICE OF AIR AND RADIATION, TOOLS OF THE TRADE: A GUIDE TO
DESIGNING AND OPERATING A CAP-AND-TRADE PROGRAM FOR POLLUTION
CONTROL, EPA 4330-B-03-002 (2003), http://www.epa.gov/airmarkets/
international/tools.pdf (last visited Jan. 21, 2006).
15 J. Kruger, B. McLean, & R. Chen, A tale of two revolutions:
Administration of the SO2 trading program (2000), in EMISSIONS
TRADING: ENVIRONMENTAL POLICY’S NEW APPROACH (R. Kosobud, ed.,
2004) [hereinafter Kruger & Chen]; Blas Perez Henriquez, Information
technology, the unsung hero of market-based environmental policies,
RESOURCES, Fall/Winter, at 9-12 (2004).
16 M. Husk & L. DeSantis, E-government and the clean air markets divi-
sion, CLEAN AIR MARKETS UPDATE 3 (Winter), at 6 (2002).
17 Id.
ENDNOTES: Confidence Through Compliance Continued on page 63
13
SUSTAINABLE DEVELOPMENT LAW & POLICY
ENDNOTES: CONFIDENCE THROUGH COMPLIANCE Continued from page 13
18 B.J. McLean, Evolution of marketable permits: The U.S. experience
35 MRG defines “monitoring methodology” as “the methodology used
19 A.D. Ellerman, P. Joskow, & D. Harrison, Emissions trading in the
US: Experience, lessons, and considerations for greenhouse gases (Pew
Center on Global Climate Change, 2003).
36 U.S.-style CEMs are possible but are not expected to be used. There is
with sulfur dioxide trading, INT’L J. OF ENVTL. & POLLUTION 8(1/2), at
19–36 (1997).
20 Kruger, supra note 5.
21 In ten years of operation, there have been 21 excess emissions penal-
ties, ranging from $2,682 to $1,580,000. There have been nine additional
civil penalties for other violations, such as failures to monitor and report
emissions. See J. Kruger & W.A. Pizer, The EU Emissions Trading
Directive: Opportunities and Potential Pitfalls (Resources for the Future,
Discussion Paper 04-24, April 2004).
22 Kruger & Chen, supra note 15.
23 TOOLS OF THE TRADE, supra note 14; T. Tietenberg, The tradable permits approach to protecting the commons: Lessons for climate change,
OXFORD REV. OF ECON. POL’Y 19(3), at 400–419 (2003).
24 Husk & DeSantis, supra note 16.
25 See e.g., the 1999 study by the Center for Clean Air Policy (“CCAP”)
commissioned by Directorate General of Environment of the European
Commission. Similarities include particularly the choice of a cap-andtrade model, grandfathering, emphasis on monitoring, reporting and verification, transparency and public involvement. See also., Kruger & Pizer,
supra note 21; Greenhouse Gas Trading in Europe: The New Grand
Policy Experiment, ENVIRONMENT, 46, Oct. 2004, at 8-23.
26 Registries are a precondition to track allowance account information,
allowance holdings, and transfers of allowances among trading participants, as well as government administrative functions such as setting up
allowance accounts, issuing, or retiring of allowances.
27 Law that is adopted by the EU needs to be implemented and enforced
by member states. This is among other parts of the principle of
Community loyalty in Article 10 of the European Community Treaty that
guides the EU.
28 In some cases, implementation of a EU law goes even beyond EU
member states and may include non-EU countries grouped in the socalled European Economic Areas (“EEAs”). The concept of the EEA has
been developed for those countries that do not wish to share the political
objectives of the EU such as progressive political integration, but want to
benefit from economic integration. It allows for the full (and legally
binding) integration of countries into the EU internal market without
being a member. This approach is currently being applied to Iceland,
Liechtenstein and Norway. See e.g., M. Emerson, M. Vahl, and S.
Woolcock, Navigating by the Stars: Norway, the European Economic
Area and the European Union (Centre for European Policy Studies,
2002)
29 The European Commission and the European Court of Justice have the
right to control implementation and enforcement. However, this always
requires cooperation of member states.
30 Although the EU ETS, as almost all other internal market-related leg-
islation, can be adopted by a qualified majority, voting is used only in
exceptional cases. This holds even truer for important laws. The EU ETS
was adopted unanimously by the Council of Ministers and by a large
majority in the European Parliament.
31 The EU ETS review is mandated to start in mid-2006 at the latest.
32 For the case of the EU ETS, see P. Zapfel & M. Vainio (2002),
Pathways to European Greenhouse Gas emissions: History and misconception, NOTA DI LAVORA 85 (Fondazione Eni Enrico Mattei, 2002).
33 Different member states use different terminology (e.g., the Plan in the
UK or protocol in the Netherlands).
34 Commission Decision establishing guidelines for the reporting of
greenhouse gas emissions pursuant to Directive 2003/87/EC of the
European Parliament and of the Council, 2004 O.J. (L 59) 1-74.
63
for the determination of emissions, including the choice between calculation or measurement and the choice of tiers,” i.e. a hierarchy of different
ambition levels.
a difference in opinion between European and U.S. officials about the
benefits of CEMs. In Europe, there are doubts about the value from both
a cost and accuracy point of view. In the U.S., CEMs are viewed as highly accurate and cost effective for monitoring of SO2 and NOx at certain
types of sources.
37 Germany set out its monitoring and reporting requirements in the per-
mits by reference to general rules.
38 The Directive requires verified data in accordance with a number of
criteria set out in Annex V of the Directive, such as the quality and accuracy of the measuring equipment, effective data management systems,
transparency of processes, and public access to data.
39 Should the need arise, member states have supervisory powers such as
inspections and sample controls in parallel to verification.
40 The EU example shows that governments faced barriers within nation-
al administrations to design and apply nondiscretionary and automatic
penalties. The reason was that such penalties have not been foreseen in
existing administrative, legal, and procedural requirements. In some
cases, law-making instructions would even prevent them.
41 Press Release, Court of Justice of the European Communities, The
European Community Has the Power to Require the Member States to
Lay Down Criminal Penalties for the Purpose of Protecting the
Environment (Sep. 13, 2005) available at http://www.curia.eu.int/en/
actu/communiques/cp05/aff/cp050075en.pdf (last visited Jan. 29, 2006).
42 BP calculated that reducing GHG emissions by ten percent below its
1990 level had a net benefit of $650 million. Reductions were a direct
consequence of the internal BP cap-and-trade scheme. The associated
MRV enabled the company to identify reduction sources. See J. Browne,
Beyond Kyoto, FOREIGN AFFAIRS, Aug. 2004, at 20-32. Similar experiences were reported by Entergy, Toyota, and Rio Tinto.
43 G.T. Svendsen, U.S. interest groups prefer emission trading: A new
perspective, PUBLIC CHOICE 101,109–128 (1999).
44 Kruger, supra note 5; see also, Southern Company’s BUBA strategy in
the SO2 allowance market, Before the Jt. Econ. Comm., U.S. Cong.
(2000) (Statement by Daniel L. Chartier, Manager, Emissions Trading,
Wisconsin Electric Power Company), in EMISSIONS TRADING:
ENVIRONMENTAL POLICY’S NEW APPROACH (Richard Kosobud, ed. 2001);
Compliance experience of regulated entities, in ACID RAIN: ARE THE
PROBLEMS SOLVED? (James C. White, ed. 2003)(reviewing industry views
on the SO2 trading program).
45 B. Swift, How environmental laws work: An analysis of the utility sector’s response to regulation of nitrogen oxides and sulfur dioxide under
the Clean Air Act, 14 TULANE ENVTL. L. J. 309 (2001).
46 R.W. Hahn & G.L. Hester, Marketable permits: Lessons for theory
and practice, 16 ECOLOGY L. Q. 361, 397(1989).
47 Statement by Carlton Bartels, Cantor Fitzgerald, before the Joint
Economic Committee, U.S. Cong. (July 9, 1997).
48 A. DENNY ELLERMAN ET. AL.,MARKETS FOR CLEAN AIR: THE U.S. ACID
RAIN PROGRAM (CAMBRIDGE U. PRESS 2000).
49 A.D. Ellerman, P. Joskow, & D. Harrison, Emissions trading in the
US: Experience, lessons, and considerations for greenhouse gases (Pew
Center on Global Climate Change, 2003).
50 Early opposition to SO trading by much of the environmental com2
munity in the United States has faded as the program has shown significant environmental results and emission “hot spots” have not emerged. J.
Kruger & M. Dean, Looking back on SO2 Trading: What’s Good for the
Environment is Good for the Market, PUBLIC UTILITIES FORTNIGHTLY 135
(15), at 30-37 (1997). However, there is still opposition to emissions trad-
SUSTAINABLE DEVELOPMENT LAW & POLICY
ing of conventional pollution by some environmental groups. Most
recently, much of this opposition has focused on mercury trading.
51 See, e.g., J.K. Mangis, The United States’ sulphur dioxide emissions
allowance program: an overview with emphasis of monitoring requirements and procedures and a summary report on US experience with environmental trading systems, EEA TECHNICAL REPORT, No. 29 (1998);
Accomplishments of the Clean Air Act, as amended by the Clean Air Act
Amendments of 1990: Hearing before the Subcommittee on Energy and
Air Quality of the Committee on Energy and Commerce, U.S. House of
Reps., one 107th Cong., 2, Serial no. 107-106 (May 1, 2002) (Testimony
by J. Holmstead).
52 Because of the jurisdictions of the Senate committees responsible for
these bills, there are different administrative agencies involved in developing guidelines or operating the programs. Under the McCainLieberman proposal, the program would be administered by EPA, but
emissions monitoring guidelines would be developed by the Department
of Commerce. Under the Bingaman proposal, the U.S. Department of
Energy would have overall responsibility for the program, including the
development of MRV guidelines.
53 Northeast Greenhouse Gas Coalition, RGGI Policy Recommendations,
Compliance and Enforcement (2004), Comment posted on the Regional
Greenhouse Gas Initiative website at http://www.rggi.org/docs/neghg_
compliance.pdf (last visited Feb. 9, 2006).
54 Governor’s Advisory Group on Global Warming, Oregon Strategy for
Greenhouse Gas Reductions (Draft), Oct. 13, 2004, available at http://
www.oregon.gov/ENERGY/GBLWRM/Strategy.shtml (last visited Feb.
9, 2006).
55 Center for Clean Air Policy, Policy Options for Reducing Greenhouse
Gas Emissions From Power Imports, prepared for California Energy
Commission, CEC-600-2005-010-D. (Mar. 2005).
56 Progressive Policy Institute, State Greenhouse Gas Registries, PPI
Model Initiatives Series (2003),
http://www.ppionline.org/ppi_ci.cfm?knlgAreaID=116&subsecID=90003
9&contentID=251287 (last visited Feb. 9, 2006).
57 See Egenhofer and Fujiwara, Reviewing the EU Emissions Trading
Scheme – Priorities for Short-Term Implementation of the Second Round
of allocation. Part I. CEPS Task Force Report No. 56, pp. 27 (2005),
available at http://www.ceps.be/files/TFReport_EU_ETS_Part_I.pdf (last
visited Jan. 29, 2006).
58 Federal EU member states such as Belgium, Spain or Germany typi-
cally have more than one Competent Autrhority.
59 European Co-Operation for Accreditation (“EA”), Doc. EA 6/03 (Mar.
2005), available at http://www.european-accreditation.org (last visited
Jan. 20, 2006).
60 “Mutual recognition” is a central element of the EU’s internal market
for goods. It describes that fact that EU member states are required to
recognize marketing authorization issued in another member state as long
as the product complies with EU minimum health and safety standards
(“essential requirements”). In services, the validity of the mutual recognition principle remains controversial.
61 For international verifiers wishing to serve their international customers, it can mean up to between 40 and 50 accreditations to different
schemes with increased cost and reduced availability of verifiers in the
market.
62 This assumes a cost range for verification per installation from €1,000
and €20,000 for big installations.
63 See Egenhofer and Fujiwara, supra note 57. While costs can be impor-
tant, emissions from small installations may not be. For example, excluding installations with emissions lower than 10,000 tonnes CO2/year
would mean to reduce the number of participants in the EU by 32 percent
(or about 3400 participants), but decrease emissions coverage in the ETS
by only one percent. Excluding installations under 25,000 tonnes
CO2/year would reduce the total number of participants dramatically (-55
WINTER 2006
percent), while reducing the included emissions by only 2.4 percent.
Ernst Worrel and Suzanne Woosen, Small Installations within the EU
Emissions Trading Scheme – Summary, Ecofys (2005).
64 Practically speaking, the following points are under discussion: (1)
establishing a list of exemptions from requirements of MRG for small
installations; (2) reducing and simplifying requirements for the monitoring of biomass fuels; (3) widening the scope for simplified approaches
for minor sources; (4) simplifying approaches for standardized commercial fuels; (5) creating differentiated requirements for the accreditation of
laboratory analyses; (6) including several existing commercially relevant
practices to determine production and stock data; and (7) considering the
optional use of differentiated oxidation factors.
65 See Kenneth J. Markowitz, Kryzsztof Michalak, & Meredith Reeves,
Improving Environmental Compliance and Enforcement Through
Performance Measurement: The INECE Indicators Project, in MAKING
LAW WORK, supra note 1.
66 The Organisation for Economic Co-operation and Development
(“OECD”) defines enforcement indicators as “those measurable pieces of
information that inform about compliance promotion, compliance monitoring, and non-compliance response.” Environmental compliance and
enforcement indicators are sometimes divided into two categories: output
based indicators and outcome based indicators. Output based indicators
are activities or services performed by a government program during a
specific time period. These could include the number of inspections performed or the number of penalties assessed. Outcome indicators are tied
to the environmental effects of a program, including interim effects such
as tons of emissions reduced. M. Stahl, Performance Indicators for
Environmental Compliance and Enforcement Programs: The U.S. EPA
Experience (INECE Expert Working Group on Environmental
Compliance and Enforcement Indicators 2004), http://inece.org/indicators/docs/StahlPaper.pdf (last visited Jan. 21, 2006).
67 Other benefits of performance indicators may include: helping pro-
gram managers understand the relationships between program activities,
such as inspections and audits, and the change in behavior or performance by the regulated community; enhancing the accountability and credibility of environmental programs with outside stakeholders; and monitoring internal operations and maximizing the efficient use of government
resources. M. Stahl, Performance Indicators for Environmental
Compliance and Enforcement Programs: The U.S. EPA Experience,
Presented at INECE-OECD Workshop on Environmental Compliance
and Enforcement Indicators, Paris (2003), http://www.inece.org/indicators/proceedings/04p_us.pdf (last visited Jan. 21, 2006).
68 Id.
69 D. Burtraw & K. Palmer, The Paparazzi Take a Look at a Living
Legend: The SO2 Cap-and-Trade Program for Power Plants in the
United States (Resources for the Future, Discussion Paper 03-15, 2003);
Ellerman et al., supra note 47 (providing recent assessments of the SO2
program); A. Farrell, Multi-lateral emissions trading: lessons from interstate NOx trading in the United States, 29 ENERGY POL’Y 1061-1072
(2001); D. Burtraw & D.Evans, The Evolution of NOx Control for CoalFired Power Plants in the United States (Resources for the Future,
Discussion Paper 03-23, 2003) (providing an assessment of the nine State
NOx OTC program).
70 In addition to MRV issues, there are a number of additional issues that
come into play when different emissions trading systems are linked,
including: relative cap stringency; trading and banking rules; and other
design elements.
64